The world in their hands

The $200 billion (£110bn) rescue operation for Freddie and Fannie was directed by Paulson at the Treasury. But Paulson wasn't just interested in shoring up the US housing markets. Foreign banks had billions invested in US mortgage securities which were then sold on by US banks. If Freddie and Fannie had gone down, Paulson knew the magnitude of the momentum created by a US-led consumer recession would lead into a global depression.

Bank bosses in China, Japan and elsewhere are said to have applauded when they heard of Paulson's decision. Similar gestures of relief and brows being mopped would have followed the Federal Reserve's announcement that it had come up with a $85bn rescue package for AIG in return for an 80% stake in the firm. This was Bernanke playing the financial god, and using the Fed's power to bail out yet another victim and limit the threat of global financial meltdown.

Most viewed the intervention as the most radical in the Fed's history, and one necessary to combat the worst global financial crisis since the Great Depression. Others saw shareholders being wiped out and treated as necessary casualties, coming off worse than the market wounds inflicted by Lehman.

But Paulson and Bernanke knew, come the end of last week, that it still wasn't going to be enough.

Late last Thursday night, in the Speaker's office on Capitol Hill in Washington, the two briefed Congress on new measures they were considering. They told the gathering that the root cause of the stress in the markets was the "price declines in real estates". Economic shorthand: the housing crisis.

"We talked about a comprehensive approach that will require legislation to deal with illiquid assets on financial institutions' balance sheets," said Paulson. Translation: we'll invent a new government agency that will take on America's bad debt (calculated to be around the $2trn mark) and give distressed companies the break they need to make themselves look and feel better.

Hans Kunnen of the Colonial First State Fund Managers in Australia said: "It's a relief. It allows for an orderly workout for the impaired assets and it will help the banking sector get back to business."

Put less politely: America's investment banks - and much else - are in meltdown, in intensive care.

With only Morgan Stanley and Goldman Sachs left as independent investment banks, it will be Paulson rather than Bernanke who probably understands what's now at stake in terms of financial reputation and how America's investment sector will now operate in the future.

Ben Shalom Bernanke is an academic who taught himself calculus at high school, went to Harvard to study economics, got his PhD from MIT, and taught at Stanford, New York University and Princeton.

Paulson, on the other hand, is the no-nonsense former Eagle Scout, who moved to the Treasury from Goldman Sachs, where he served as chairman and chief executive officer. Paulson might not have the academic credentials of Bernanke, but his MBA from Harvard has taken him to the Pentagon as a staff assistant to the assistant secretary of defence, and into the office of the jailed Nixon administration official, John Ehrlichman.

The soured politics of the Nixon years may initially have pushed Paulson away from Washington. He joined Goldman Sachs in 1974 and is said to have embraced a work ethic than few could match to work his way to the top. He began his day at 4.30am, finishing at 6pm, and was in bed by 9pm. He's a Christian Scientist, doesn't smoke or drink. Paulson, according to one of his aides, has two speeds - on and off.

As he and Bernanke try to limit the economic contagion that has spread out from the core failures of the Bush administration's multiple financial mistakes, it's likely that "on" has become Paulson's default setting.

Paulson may appreciate the scale of the problem now, but for his critics he took far too long to grasp the severity of what was about to hit the US and then hit Britain, Europe and everywhere else that reacts to any blip in America's pulse rate.

Paulson initially favoured less regulation of financial institutions. But then he had reason to believe and trust in the power of what a bank, untethered, could do - at Goldman Sachs he reached annual earnings of $37 million and when he was forced to sell his 3.2 million Goldman shares to take up the Treasury job in 2006, they were worth $500m. His bonus was that in taking the Treasury post, he didn't have to pay capital gains tax.

If the contagion spreads to Goldman, the only US investment bank that has so far avoided taking huge write-downs in the credit crunch, Paulson may yet have to accept that the culture he once thrived in, and dominated, has gone.

But Paulson and Goldman's success was before the full effects of no control and the exploding bubble of the sub-prime housing market was fully known.

Paulson and Bernanke might be all-powerful deities, but when the panic set in, critics say the two didn't act fast enough. One LSE economist said last week: "If Paulson and Bernanke had acted quicker, and better, could this crisis have been stopped? No, they couldn't have stopped it. But they could have made it less painful."

Nouriel Roubini of the Stern Business School at New York University said it wasn't just Paulson and Bernanke: "It was a problem throughout the federal government. Everyone was asleep at the wheel."

A POLITICALLY castrated White House has left Paulson and Bernanke, if not quite the dual crown princes of financial rescue, then at least chairmen of the who-lives-who-dies board of survival. It was Paulson who earlier this year persuaded the White House that a $168bn stimulus package was needed. It was Paulson who worked with Bernanke to orchestrate what many have called the "fire sale" which gave the ailing Bear Stearns bank to JP Morgan Chase. But despite having the federal power and wealth to rescue Wall Street from its own colossal errors and (there is no other word for it) greed, Paulson hasn't saved enough bacon to please everyone.

But that $168bn package is just one part of the jigsaw being designed by the Treasury and the Fed. Making more credit available remains a short-term solution, not an end to the problem. But Paulson and Bernanke, with his specialist economic knowledge of the trade cycle, are said to be looking at what one economist called the "clean slate" approach.

In the 1980s, following the collapse of the savings and loans banks, the US government set up the Resolution Trust Corporation (RTC). The RTC took over most of the problematic small banks at a cost to the Treasury of $400bn, roughly $1trn at today's values. And having taken over the assets, then tried to sell them off over time.

A new RTC, or whatever it is christened, is likely to add to the perception that while Wall Street might worship capitalism and praise its culture of risk and reward, it is the Fed and the Treasury who still hold all the powerful cards.

And when the high wire acts fall, the Paulson-Bernanke safety net is deployed not to protect the risk-takers, but to protect the US economy, and the global market, from the worst excesses of corporate folly.